SECURITIES & EXCH. COM'N v. North American R. & D. Corp.

• Citation: 424 F.2d 63
• Decision Date: 25 March 1970
• Docket Number: No. 61-63 and 180,Dockets 32246-32248 and 33817.,61-63 and 180
• Court: United States Courts of Appeals. United States Court of Appeals (2nd Circuit)
• Parties: SECURITIES AND EXCHANGE COMMISSION, Plaintiff-Appellee, v. NORTH AMERICAN RESEARCH AND DEVELOPMENT CORP., Edward White and K. Ralph Bowman, Defendants-Appellants. SECURITIES AND EXCHANGE COMMISSION, Plaintiff-Appellant, v. NORTH AMERICAN RESEARCH AND DEVELOPMENT CORP. et al., Defendants, and Martin Orenzoff, Alfred Blumberg, Lewis Dillman and Lars Hagglof & Co., Ltd., Defendants-Appellees.

424 F.2d 63 (1970)

SECURITIES AND EXCHANGE COMMISSION, Plaintiff-Appellee, v. NORTH AMERICAN RESEARCH AND DEVELOPMENT CORP., Edward White and K. Ralph Bowman, Defendants-Appellants.

SECURITIES AND EXCHANGE COMMISSION, Plaintiff-Appellant, v. NORTH AMERICAN RESEARCH AND DEVELOPMENT CORP. et al., Defendants, and Martin Orenzoff, Alfred Blumberg, Lewis Dillman and Lars Hagglof & Co., Ltd., Defendants-Appellees.

Nos. 61-63 and 180, Dockets 32246-32248 and 33817.

United States Court of Appeals, Second Circuit.

Argued October 30, 1969.

Decided March 25, 1970.

COPYRIGHT MATERIAL OMITTED

Richard E. Nathan, Atty., S.E.C., Washington, D. C. (Philip A. Loomis, Jr., Gen. Counsel, David Ferber, Solicitor, and Meyer Eisenberg, Associate Gen. Counsel, S.E.C., Washington, D. C., on the brief), for Securities and Exchange Commission.

Leonard R. Glass, New York City (Glass & Greenberg, New York City and Arnold & Porter, Co-Counsel, Washington, D. C., on the brief), for defendants-appellants.

Spencer Pinkham, New York City (Parr, Doherty, Polk & Sargent, New York City, on the brief), for defendant-appellee Martin Orenzoff.

Ronald B. Bianchi, New York City (Glass & Greenberg, New York City and Arnold & Porter, Co-Counsel, Washington, D. C., on the brief), for defendant-appellee Lewis Dillman.

Before MEDINA, MOORE and FEINBERG, Circuit Judges.

MEDINA, Circuit Judge:

These appeals require us to consider once again the scope of Section 5 of the Securities Act of 1933, Section 10(b) of the Securities Exchange Act of 1934 and the SEC's frequently litigated Rule 10b-5. The District Court preliminarily enjoined appellants North American Research and Development Corp., Edward White, its controlling stockholder and Chairman of its Board of Directors, and K. Ralph Bowman, its Secretary-Treasurer and a member of the Board of Directors, from violating Sections 5(a) and (c) of the 1933 Act¹ and Section 10(b) of the 1934 Act,² together with Rule 10b-5,³ with respect to the purchase, offer or sale of the unregistered common stock of North American.

The court below refused to enjoin appellees Lewis Dillman, the President of North American; Alfred Blumberg, a New York stockbroker; Martin Orenzoff, a chartist and friend of appellant White; and Lars Hagglof & Co., Ltd., a Canadian stock brokerage firm with extensive ties to White and his friends, from violating any of the securities laws pursuant to which the SEC sought relief with respect to transactions in North American unregistered common stock. The SEC appeals, contending that Dillman, Blumberg, and Orenzoff should have been enjoined under Sections 5(a) and (c) of the 1933 Act, Section 10(b) of the 1934 Act and Rule 10b-5, and that Lars Hagglof & Co., Ltd. should have been enjoined under Sections 5(a) and (c), supra. The opinion of the District Court is reported at 280 F.Supp. 106 (S.D.N.Y.1968). That part of the order preliminarily enjoining North American, White, and Bowman is affirmed; that part refusing to grant any relief against Dillman, Blumberg, Orenzoff, and Lars Hagglof & Co., Ltd. is vacated and remanded to the District Court for further proceedings consistent with this opinion.

I. The Facts

As a background to the numerous law points raised by the various appellants on the main and cross-appeal, we think it will be helpful to sketch a bird's-eye view of the central scheme and its component parts. Edward White, a self-styled promoter and securities trader with extensive connections and interests in Canada and in the United States, is the originator of the scheme. His principal associates and collaborators throughout were Sam Freeman, a Toronto stock trader, and another Toronto friend, Frank M. Naft. The first step was to find a publicly-owned corporation whose assets had been sold and the proceeds distributed "leaving it a worthless, inactive, empty shell, with neither assets nor liabilities"; to get control of the shell; to buy up for purely nominal amounts the stock held by the minority stockholders who considered the stock of no value; to funnel the shares thus purchased into the custody of cooperating brokerage houses in Canada, and to gain complete control by transferring these shares to close friends and relatives; to dress up the shell with assets of the type that could readily be blown up as having enormous potential value, without any substantial expenditure of cash; then to begin the process of touting, by sales pressure on American brokerage houses, culminating in the inclusion of the stock in the Pink Sheets used in connection with the over-the-counter market. At this point the word was "up," and seemingly only the sky was the limit. We may say by way of anticipation that up to this point the scheme worked according to the standard of other similar fraudulent schemes and without a hitch. From a start of ½ cent or a penny a share and at about $2 a share when first appearing in the Pink Sheets, the stock rose to over $6 a share before the SEC suspended trading and made its application to the District Court for the Southern District of New York for the preliminary injunctive relief which was granted and is the subject of this appeal.

How was all this accomplished? Freeman had friends in Salt Lake City, one of whom was K. Ralph Bowman. Bowman knew Richard Whitney and Whitney's friend Donald Glenn, also of Salt Lake City. Thus it was that Robert A. Johnson was located. He did indeed know of just such a shell as the triumvirate of White, Freeman, and Naft, as Judge Mansfield characterized them, were seeking. It was an inactive, publicly-owned Utah corporation named Utah Fortuna Gold Company; and Johnson was Secretary-Treasurer, a director, and transfer agent. He was also an officer, director, and transfer agent of South Utah Mines, Inc., another Utah corporation, which was the owner of 1.2 million of the 1.8 million outstanding shares of Utah Fortuna. The controlling stockholder of South Utah was Mrs. Mabel McGarry, who owned between 70% and 80% of the South Utah stock. So Johnson, as Mrs. McGarry's business advisor and because of his position as a director and officer of South Utah, exercised a persuasive and decisive influence in the managerial and financial decisions of Mrs. McGarry with reference to the voting of the stock of South Utah. One of the key findings of Judge Mansfield was that Johnson was an "issuer," i. e., a person controlling Utah Fortuna "because his position as a director and officer of South Utah and his relationship with Mrs. McGarry enabled him to exercise a persuasive and decisive influence in the managerial and financial decisions made by her and South Utah" with respect to voting the stock owned by her. 280 F.Supp. at 121.

A characteristic of most conspiracies to effect illegal ends, such as the one with which we are now concerned, is that peripheral members, or even those just below the prime movers, will not hesitate to chisel off relatively small emoluments for their personal profit, while at the same time furthering the objects and purposes of the high command. Johnson learned from Whitney that Freeman on behalf of his friend and client White was willing to pay $10,000 for control of Utah Fortuna. So the whole Salt Lake City crowd — K. Ralph Bowman, Richard Whitney, Johnson, Donald Glenn, and Richard Whitney's brother Frank Whitney — engineered an elaborate series of more or less contemporaneous transactions as a result of which White and his nominee Sonia Starr wound up with one million shares of Utah Fortuna,⁴ for which White paid $10,000; Mrs. McGarry received a paltry $500; and Bowman, the two Whitneys, Johnson, and Glenn divided up most of the balance of the cash together with 100,000 shares of Utah Fortuna stock each to Glenn and Frank Whitney, which they chose to describe as "finder's fees." It may well be that the initial option to Richard Whitney and the sale from Richard Whitney to White were designed to insulate White from Mrs. McGarry, who came out a poor last in the distribution of the $10,000 paid by White. But this is by the way.

This little byplay, however, has significance not only because it ties each and every one of the participants into the scheme to help White to get control of Utah Fortuna, but also because it ties these same individuals in with White and Freeman in connection with the campaign of Richard Whitney, Johnson, and Bowman beginning on April 24, 1967 to acquire the remaining shares of Utah Fortuna, held by the minority stockholders, and to funnel these shares to two Toronto brokerage houses designated by White and Freeman. The proof is explicit that Freeman advised Bowman by telephone from Toronto that any shares acquired by him would be purchased by the firm of J. P. Cannon & Co., Ltd. of Toronto, and White told Richard Whitney that if he was able to buy any stock he should call J. P. Cannon & Co., Ltd. or Lars Hagglof & Co., Ltd. in Toronto, which would purchase it. Such was the zeal of the Salt Lake City participants in the over-all scheme that before White actually acquired control by the purchase from Richard Whitney of the one million shares on April 27, 1967, they had purchased for nominal sums from the minority stockholders no fewer than 188,500 shares of Utah Fortuna which, with the two 100,000-share allotments to Frank Whitney and Donald Glenn, came to a total of 388,500 shares, all acquired in anticipation of the acquisition of control by White on April 27, 1967. After April 27, 1967 other shares were acquired by the same participants, which by June 27, 1967 brought the total number to 753,000 shares. Every one of these shares wound up, as planned, with J. P. Cannon & Co., Ltd. and Lars Hagglof & Co., Ltd.; and they were all promptly registered in the names of close friends and relatives of the principal schemers. A large number of these shares were traced to sales on the over-the-counter market in New York City, and the first transaction after the stock appeared in the Pink...